- The Communal Powers
- The Supreme Court
- Rule-by-Decree Authority
When Russell Dallen, publisher of the Latin American Herald Tribune, asked guests attending the Center for Hemispheric Policy’s discussion on Venezuela this month to open the envelopes taped under their seats for a “special surprise,” no one could miss the irony in his voice. Inside were various denominations of the Venezuelan currency, the bolívar.
As Dallen explained, even as the Venezuelan government officially reports that the exchange rate is 6.3 bolívares to $1 US, the current black market rate is 135 times that, at 850 bolívares to $1. This meant that the “lucky” holder of 10 bolívares had won less than a cent.
All this to say that the current state of Venezuela’s economy is in shambles. In the socialist nation basic staples, such as milk and flour, are hard to find. Inflation is rising while oil production, once the nation’s dominant economic driver, continues to plummet.
Gathered at the Westin Colonnade Hotel in Coral Gables on November 12, Dallen and fellow panelists, Javier Corrales of Amherst College, Beatrice Rangel of AMLA Consulting, and Otto Reich, former U.S. assistant secretary of state for Western Hemisphere Affairs, discussed the current situation in Venezuela and the possible effects of the country’s upcoming parliamentary elections, on December 6. Susan Kaufman Purcell, director of the CHP at the University of Miami, moderate the discussion.
“¿Qué clase de gobierno se necesita para llevar a un país que cuenta con las mayores reservas de petróleo en el mundo al borde de la quiebra?”, dice Russ Dallen, socio gerente de Caracas Capital Markets, una firma con sede en Miami que invierte en Venezuela.
The country’s inflation rate is no better, with official figures putting the number at 64pc. However, according to Robert Bottome, publisher of VenEconomy Weekly, it is 100pc and Russ Dallen of Caracas Capital Markets says it is 120pc.
By Russ Dallen of Caracas Capital Markets
Investing in Venezuela has always been like praying mantis love. On first acquaintance, Bolivarian Venezuela has those big, beautiful Miss Venezuela eyes and those angelic clasped praying hands inspiring trust and confidence, all backed up by glorious profits and yields. But while other investors in Venezuela – from oil companies, to airlines, to consumer products corporations – have been lured to their demise, bondholders have until the past two years been spared from most praying mantis cannibalism, and the action for bondholders has been great! Even if Venezuela has not paid shareholders of ExxonMobil, ConocoPhillips, or the Koch brothers’ Fertinitro, Venezuela paid the bondholders handsomely! Always! But then came the first sign of trouble, from steel company Sidetur, which the Venezuela government expropriated in 2013 and then didn’t pay its bondholders (or shareholders).
Subsequently, over the past year, Venezuela bondholders have finally gotten their heads ripped off. Now the Praying Mantis School of Business is landing on American shores. (For those unacquainted with the sexual cannibalism of the praying mantis, you can watch a two-minute video here.)
In July, Citgo, the US refining subsidiary of PDVSA, Venezuela’s state oil group, issued $650m in new debt with seemingly strong covenants to protect bondholders. The first hint of doom should have been the identity of the lawyers who wrote Venezuela’s side of the Citgo bond offering memorandum – Curtis, Mallet-Prevost, Colt & Mosle. George Kahale III, Curtis Mallet’s chairman and former managing partner, is the ace in Venezuela’s arsenal and has been the Bolivarian Republic’s chief defender in its multitude of expropriation cases. The guy is better than good – he is the Red Baron of their legal defence.
The bond prospectus seems to have some pretty strong covenants to protect existing lenders and bondholders from just the sort of thing that Citgo is now trying to do:
The New Senior Credit Facility will also be governed by a financial covenant providing for an indebtedness to total capitalization ratio of no more than 60%, to be calculated on a consolidated basis and for each consecutive four fiscal quarter period.
Payments of Dividends. The New Senior Credit Facility will allow us to pay dividends equal to 100% of our cumulative net income (commencing from April 1, 2014 and excluding the aftertax effect of gain on sales of assets) plus net after-tax proceeds from certain permitted assets sales. The New Senior Credit Facility will prohibit us from paying dividends during the existence of an event of default and to the extent payment of dividends would trigger an event of default, and further restrict our payment of dividends by instituting a number of debt incurrence tests, including the following:
• minimum liquidity of $500 million post-dividend; and
• maximum indebtedness to total capitalization of 55% post-dividend.
Incurrence of Indebtedness. The New Senior Credit Facility will allow us to issue the notes offered hereby. In addition, the New Senior Credit Facility will allow us to issue up to $1,000 million in additional secured and unsecured indebtedness, a portion of which indebtedness may be incurred in the form of fixed rate IRBs. To the extent we issue additional secured indebtedness, it may share in the collateral securing the New Senior Credit Facility and the notes offered hereby on a pari passu basis. We currently have $108 million IRBs outstanding. All but $3 million of our outstanding IRBs will be secured on an equal and ratable basis by the collateral securing the notes and the New Senior Credit Facility.”
How is Venezuela able to get around these rules, which restrict the ability of PDVSA to dilute Citgo’s credit quality and the ring-fencing which includes a debt/cap maximum of 60 per cent, with a lower 55 per cent test for purposes of making distributions to the parent?
Two major moves:
1. They are taking PDV America, Inc and changing its name to Citgo Holding, Inc, which will issue the debt above Citgo Petroleum Corporation. Here is the ownership structure before the name change:
2. They are taking the terminals (East Chicago, Linden, Albany, Toledo and Dayton) and pipeline assets – which, though mentioned in the prospectus, were not security for the original bondholders – and getting them out from underneath the bondholders by borrowing billions in the name of this new holding company and selling the assets to their own new holding company for $750m as they suck out the money, since they are allowed to repatriate profits from sales of assets.
Previously, Venezuela was trying to sell Citgo but that looks to be effectively blocked by ongoing legal actions and threatened legal actions from creditors like ConocoPhillips (no judgment yet, but estimated at $4.5bn), ExxonMobil (has ICSID judgement for $1.7bn) and Gold Reserve (has ICSID judgment for $745m). Texas judge Caroline Baker has not yet ruled on ConocoPhillips Petrozuata’s discovery request on Citgo’s sale, where ConocoPhillips said it would try to prevent the proceeds of a Citgo sale from leaving the country, but the writing was on the wall and buyers are obviously worried about being caught up in years of legal wrangling.
So, because they owed so many people, they were unable to sell Citgo, which we had estimated could realize $5bn to $7bn when oil was at $100 a barrel. Instead, they are getting around bondholder and lender protections and sucking the money out of it by forming a new company called Citgo Holdings, Inc above existing bondholders and loading it up with new debt of $2.5bn, with “$1.5 billion as a high yield offering” and a “$1 billion senior secured first lien five-year term loan B.”
As of December 31, 2014, Citgo’s total debt was already $1.91bn.
In the new structure, Citgo Holding, Inc will own 100 per cent of Citgo as well as the new owner of five oil products terminals, Citgo Holding Terminals, plus two pipeline companies, Southwest Pipeline Holding and Midwest Pipeline Holding. During the last 12 months ended in September 2014, these assets generated just $40m in EBITDA – not even enough to pay half of the interest on the $1bn Term Loan B, much less the interest on a $1.5bn bond!
The new Term Loan B and the secured notes will only be guaranteed by the terminal and pipeline companies; Citgo is not a guarantor of the proposed transactions. As Moody’s notes:
The security package for the Term Loan B and the notes is weak as it will only include the terminals and pipelines to be acquired from Citgo plus 49% of the capital stock of Citgo.
Citgo Holding, Inc will also maintain a reserve account for the benefit of the creditors. The reserve account will be funded on the issue date with funds sufficient to cover one semi-annual interest payment on the debt; the issuer will be obligated to maintain at least such level in the reserve account until the maturity of the loan and the notes. Of course, Sidetur also had such a covenant, and Venezuela defaulted on that in 2013.
Citgo is having to offer over 10 per cent on the loan and is still not finding many takers. Current price talk is about 800 basis points over Libor on the five-year senior secured first-lien Term Loan B, according to lead manager Deutsche Bank. There is a Libor floor of 1 per cent – meaning that the interest paid on the principal would be at least 9 per cent – and it will be issued at a discount of 96–97 (ie not 100, par) to bring the yield above 10 per cent. Meanwhile, Venezuela and PDVSA debt is offering yields of as much as 63 per cent in two years and still having trouble finding takers.
As is apparent, Venezuela is starved for cash. The country must pay a total of $11bn in US dollar/euro maturities, amortization and interest this year. In February alone, Venezuela, PDVSA and Citgo have to pay over $750m in interest payments on bonds. In March, they have to retire the 1 billion euro Venezuela 7 per cent of 2015.
Venezuela’s oil basket averaged $39.52 a barrel this week. According to December’s Opec statistics, Venezuela is producing 2.33m barrels a day, but 800,000 barrels are used in domestic consumption, Cuba gets some free (it was 100,000), China was getting 450,000 barrels a day of their 650,000 in imports as payments toward the $50bn they have already loaned Venezuela. In short, Venezuela only realizes cash from 1.2m to 1.5m barrels a day. At 1.5m bpd at $39.52, it gets $59.3m a day, or $21.6bn for the year. For 1.2m bpd at $39.52, it is just $47m a day, or $17.3bn for the year – barely enough to cover the $11bn in debt, much less pay your oil providers, suppliers and personnel, not to mention imports and everything else.
Addendum – Maduro’s dog & pony show
One other thing: like many analysts and masochistic observers, I sat through the five hours of the Dog and Pony Show that was Maduro’s Annual Address to the National Assembly last Wednesday night. I must say that I had a moment of positive thought when the cameras showed banners of Maduro with China’s Xi Jinping – Maduro had promised to reveal all the details of all the money he had gotten on his Beg, Borrow or Steal Tour, so I thought “Oh, maybe he really did get the $20bn from China or maybe even the billions from the Qataris and he is going finally tell us about it! Wow!” So, what did Maduro say about the so-called billions he said he had gotten on his tour from China and Qatar? Nothing. Crickets. He said nothing at all. Almost like it had never really happened. Welcome to the Praying Mantis School of Business.
Russ Dallen is managing partner of investment bank Caracas Capital Markets in Venezuela and publisher of the Latin American Herald Tribune.
“It was a surprise that he went on tour with such short notice, but the results have been unsurprising,” Russell Dallen, Miami-based managing partner at Caracas Capital Markets, said in a telephone interview.
“El país está implosionando”, dice Russell Dallen, socio administrativo de Caracas Capital Markets, una compañía con sede en Miami que se especializa en valores latinoamericanos. “Venezuela no podría pagar sus deudas con el costo del petróleo a 100 dólares el barril y, definitivamente, será mucho más difícil que las pague con el precio actual de 40 dólares el barril”.
Venezuela no vende lo suficiente de su petróleo para cubrir su deuda, dice Dallen. Aunque Venezuela produce alrededor de 2,3 millones de barriles de petróleo al día, los venezolanos consumen la tercera parte de esa cantidad y casi no pagan nada por ella. Aunque el país también envía una gran cantidad de petróleo a China, el ingreso, casi en su totalidad, sirve para pagar las deudas anteriores, según indicó Dallen.
“The country is imploding,” says Russell Dallen, managing partner of Caracas Capital Markets, a Miami-based firm that specializes in Latin American securities. “Venezuela couldn’t pay its bills at $100 a barrel of oil and it’s darn sure going to have a hard time paying them at $40 a barrel of oil.”
Venezuela does not sell enough of its oil to cover its debt, Dallen says. Although Venezuela produces about 2.3 million barrels of oil a day, Venezuelans consume a third of that and pay almost nothing for it. While the country also sends a lot of oil to China, it’s almost entirely to pay off previous debts, according to Dallen.
The South American nation has $11 billion in debt payments this year. The critical moment will come in October, experts say, when about $5 billion is due. Maduro has not asked the International Monetary Fund or World Bank for financial help.
Russ Dallen of Caracas Capital Markets told beyondbrics by email:
They would like to sell it, but they are trying to talk up their book. It is worth about $5-7bn, not the $10-15bn they were are trying to assert they have offers. But, they need the money. They have huge dollar shortages at home. They have 2 bonds for $4.5 bn maturing in October to pay off, in addition to high interest, and they are also concerned about the large arbitration judgments that loom in their future.
The most casual followers of the Argentine debt saga will be familiar with the Latin term pari passu, or “equal footing” – or, in this case, equal payment to all holders of Argentine bonds, whether or not those holders took part in the country’s two restructuring programmes in 2005 and 2010 following its 2001 default.
Now Russ Dallen of Caracas Capital Markets, a veteran commentator on and broker in Latin America’s most exotic bond markets, has introduced another smattering of Latin to the story: pacta sunt servanda, or “contracts are for keeping”.
That’s what Dallen wrote to investors on Thursday as the basket of defaulted Argentina bonds, bought by Dallen for clients last year when they were trading for 30 something cents on the dollar, rose through the mid 80s to reach a bid price of 90 cents on the dollar.
This from his note:
While Argentina rails and nashes their teeth at the injustice of it all, the US courts in the end are simply enforcing contract law; and like it or not, Argentina wrote bad contracts (or good contracts, depending on which side of the litigation fence you are on).
There are about $3bn worth of untendered Argentine debt – bonds that did not take part in the restructuring – including about $1.3bn held by investors who have sued Argentina in the US (because the bonds were written under US law), led by Paul Singer’s NML Capital.
The defaulted bonds have shot up in value since the US Supreme Court refused on June 16 to overturn previous rulings that ordered Buenos Aires to pay the holdouts according to the contracts on their bonds. They are now, says Dallen, approaching face value.
But what if the contracts really are for keeping?
There are many different instruments in the bundles traded generically as defaulted Argentine debt. In a normal bond market, bonds are traded with interest: a bond that pays interest every six months will rise in price over the course of each six month period in accordance with the amount of due interest accrued. Argentine defaulted bonds are traded without interest, on the assumption that no interest will be paid.
However, if the contracts are enforced as written, that could change dramatically in bond holders’ favour: they would get not only 100 cents on the dollar but also the amount of interest unpaid since the default nearly 13 years ago, which could typically double or triple the bonds’ face value.
Might that happen? It just might. The prospect would certainly tend to push the price of the bonds up rather than down. And it would add to what Dallen says is an extreme mismatch between people now clamouring to buy the bonds and those willing to sell.
“It may well be that Argentina is buying the bonds back,” he says. “It would make sense and it would certainly be the cheapest solution for them, especially if they will have to pay a multiple.”
Argentina’s best course of action now would appear to be to negotiate in good faithwith the holdouts. It may well be able to settle for less than the full amount in the bonds’ contracts. Says Dallen, who got his law degrees from Christchurch College Oxford and Nottingham University in the UK and Columbia Law School in the US: “The first thing they teach you on both sides of the Atlantic is pacta sunt servanda. Then they teach you how to get out of it.”
“Venezuela is a mess,” said Russell M. Dallen Jr., president and editor-in-chief of the Latin American Herald Tribune. “It pretty much goes back to what happened a year ago at this time: the election of Maduro. The difference in the amount of votes was less than 250,000 out of 19 million. Members of the opposition had doubts about the election and pressed for an audit, but they didn’t get it.”
Dallen was one of three speakers at an April 10 forum on Venezuela hosted by the Americas Society/Council of the Americas. The others were Javier Corrales, a political science professor at Amherst College in Massachusetts, and John Maisto, a former U.S. ambassador to both Venezuela and the Organization of American States (OAS).
By coincidence, the panel took place the same day Maduro joined in a televised dialogue with Henrique Capriles and 10 other opposition leaders under the sponsorship of Brazil, Colombia, Ecuador and the Vatican. While such dialogue is encouraging, few Venezuela-watchers expect the country’s crisis to be resolved anytime soon.
They’re locked into a situation where, for better or worse, they have a bad bus driver, and they’re about to drive off a cliff,” quipped Dallen — a not-so-subtle reference to Maduro, who drove a bus before entering politics and becoming an ally of Chávez.
The publisher told his audience of about 40 people that “questionable acts” took place in at least 28 precincts on April 14, 2013 — the day Venezuelans went to the polls to replace Chávez, who had died of cancer in March at age 58. Chávez had been in power for 14 years, longer than any Venezuelan head of state in recent memory.
“There were some [polling centers] where 100 percent of the people voted, and 100 percent of the votes went to Maduro,” Dallen said, “so the opposition quietly went back to work, and the situation continued to deteriorate.”
“The Maduro administration seems to be incapable of acting and is locked in internecine policy and power conflicts that are causing paralysis,” said Russ Dallen, managing partner at Caracas Capital Markets. He doubts whether Venezuela is in hyperinflation territory “yet”.
He says the problem is that the value of the dollar on the currency black market, the result of a decade of strict controls, has more than tripled in the past three years, making imports more expensive.
“If Maduro can find dollars and speed them into the markets, he could turn that situation around. Sadly, the Cubans seem to be running things in the meantime and you end up with Cuban-type solutions like the rationing model in Zulia,” he said.
“Essentially, they’ve hit a plateau, and Venezuela’s oil production hasn’t gone up,” said Russell Dallen, head trader at Caracas Capital Markets and a longtime student of Venezuela’s economy. “What that really means is that Venezuela doesn’t have enough dollars to pay for all the things that they need to pay with dollars.”
Il terzo è lo spettro di un default. Il Venezuela vende ogni giorno 640mila barili al giorno alla Cina, a prezzo privilegiato per poter ripagare almeno gli interessi dei 40miliardi di dollari che Pechino ha investito in Venezuela dal 2008 a oggi.Per questo, secondo Russell Dallen, analista americano di “Caracas Capital Markets”, nei prossimi cinque anni vi è il 65% di probabilità che Venezuela non sappia fronteggiare i propri debiti.
Deutsche Bank Trust Company Americas, the trustee for the $75 million of outstanding bonds issued by the Caracas-based
steel producer known as Sidetur, said in a Jan. 30 letter to creditors that a technical default occurred because a reserve
account maintained by the company wasn’t fully funded, according to Russell Dallen, the head trader at Caracas Capital Markets,
and Ray Zucaro at SW Asset Management LLC.